I’m going to introduce another series of accounting terms here to do with your profit & loss statements. We’re talking about Gross Profit & Net Profit; which we’ll assume you understand the difference.
A lot of people concentrate on Revenue & Gross Profit as indicators of their business health and growth, being happy when Gross Profit or Revenue grows. Revenue is so easy to keep track of; which is why most people keep an eye on it. Tracking gross profit is harder – which is why it’s easy to use an ‘average’ margin to estimate your gross profit.
It’s not a bad way for day-to-day work, however, any changes to what you sell with affect your gross profit. An example for us might be selling more Days of Wonders products because our net margin on those products are lower than our normal margins.
However, while Gross Profit is a good basic estimator, it ignores the vast majority of costs that are incurred. In fact, the three main cost factors in a business is the Cost of Goods Sold, Rent & Salary. Both Rent & Salary are in the Net Profit factors of a business, as are other highly variable costs like heat & lighting, merchant fees, transportation fees, marketing & any legal/administrative costs.
It’s easy to forget to keep an eye on these factors, but controlling your costs is extremely important. It affects your bottom line to a much higher degree than increasing revenue. Frankly, I’d rather save $100 in cost than gain $200 in revenue any day.